Question

What are two common measures of stock risk, what do they tell us, and how are they calculated?

Also include in your discussion the Sharpe Ratio.

Answer 1

Two measures of stock risk are standard deviation and Sharpe Ratio

Standard deviation :

Standard deviation =  (x - x̅)² / N   

where x = value of observation

x̅ = arithmetic mean of sample

N = number of observations in sample

Standard deviation measures the dispersion around the mean. Higher the standard deviation, more the dispersion of the data around the mean.  

In the case of stocks, a stock with higher standard deviation will have higher volatility (higher risk)

Sharpe Ratio :

Sharpe ratio is a measure of the excess return earned per unit of risk

Sharpe ratio = (R_s - R_f) / _s,  

where R_s = return of stock

R_f = risk free rate

_s = standard deviation of stock returns

Sharpe ratio measures the excess returns of the stock above the risk free rate, for each unit of standard deviation